Consider the following competitive market for insurance. There are two states of the world: good G and bad B. Consumers have wealth £500. If the bad state occurs their wealth is reduced by £200. Consumers are expected utility maximisers, with common utility func- tion u(x)=√√x. There are two types of consumers: high risk types H and low risk types L. Consumers know their own types, but firms cannot distinguish between different types of consumers. The probabilities that H and L types find themselves in the bad state are PH = 0.5 and PL = 0.4. It is estimated that 70% of the population are low risk. Firms are expected profit maximisers that offer consumers state-contingent contracts c = (CG, CB) in exchange for their endowment e = (eg, eg). Determine the equilibrium set of contracts.

Consider the following competitive market for insurance. There are two states of the world: good G and bad B. Consumers have wealth £500. If the bad state occurs their wealth is reduced by £200. Consumers are expected utility maximisers, with common utility func- tion u(x)=√√x. There are two types of consumers: high risk types H and low risk types L. Consumers know their own types, but firms cannot distinguish between different types of consumers. The probabilities that H and L types find themselves in the bad state are PH = 0.5 and PL = 0.4. It is estimated that 70% of the population are low risk. Firms are expected profit maximisers that offer consumers state-contingent contracts c = (CG, CB) in exchange for their endowment e = (eg, eg). Determine the equilibrium set of contracts.

Microeconomic Theory

12th Edition

ISBN:9781337517942

Author:NICHOLSON

Publisher:NICHOLSON

Chapter7: Uncertainty

Section: Chapter Questions

Problem 7.5P

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